Investors Take a CLOser Look at CLO ETFs

And you thought you had a lot of obligations in life. 

US-listed ETFs holding collateralized loan obligations drew a record $3.3 billion in September, bringing the yearly total up to about $18 billion, according to TD Securities’ US ETF weekly report. While CLOs used to be the remit of institutional investors, ETFs focused on the asset class have opened up the category for individual investors. Since CLOs are made up of floating-rate bank loans, they’re less sensitive to rising rates and offer higher yields than other fixed income products, said Joe Bullard, active fixed-income research analyst at Morningstar. 

“If you want to lessen duration in your portfolio, or if you just don’t want much interest rate sensitivity, while still getting some premium for corporate exposure, CLOs can provide that,” Bullard said. 

Still, while the interest on CLOs rises along with rates, they fall with rates too, cautioned Matthew Chancey, founder of Tax Alpha Companies. “It went up on the way up, and it will come down on the way down,” he said. “If you’re using this as a better savings account, you’ll feel it first when rates fall.” 

You’re Not a Loan

The turning point for CLO ETFs came in 2022, when the Fed first started raising rates. Traditional bonds suffered, but floating-rate AAA CLOs held up. “Category assets roughly quadrupled that year, from about $500 million to $2 billion,” American Beacon CIO Paul Cavazos said. “Investors got yield without duration risk, and they haven’t forgotten it.” 

In the tranches: 

• CLO ETFs brought in about $2.5 billion in July, $2.6 billion in August and $3.3 billion in September, per TD Securities. Roughly 80% of this year’s flows have gone to the PGIM AAA CLO ETF (PAAA) and the Janus Henderson AAA CLO ETF (JAAA). 
• JAAA has returned nearly 3.6% this year, outperforming the SPDR Bloomberg 1-3 Month T-Bill ETF (BIL) (at 2.9%) and the Invesco Senior Loan ETF (BKLN) (at 2%), as of Oct. 19, per ETF.com data. The difference is even more pronounced when compared to traditional bond funds, with the iShares Core U.S. Aggregate Bond ETF (AGG) down 1.6% for the year, the iShares National Muni Bond ETF (MUB) down 2.1% and the iShares 20+ Year Treasury Bond ETF (TLT) down nearly 5%. 

CLOistered No More: Prior to 2022, there were only two CLO ETFs. Three more were added that year, and then things exploded. “If you had told me six years ago when we launched JAAA there were going to be 56 CLO ETFs, I would have said you’re crazy,” said John Kerschner, global head of securitized products at Janus Henderson. “We’re probably at peak CLO ETF right now. I would bet in another year that number actually goes down, as some of these are shuttered.”